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Lessons from Electricity Market Restructuring

Lessons from Electricity Market Restructuring. David Newbery Cambridge University Dublin Electricity Workshop Dublin, 25 November 2004 http:// www.econ.cam.ac.uk/electricity. Lessons from Britain. Importance of market structure: Unbundling: England vs Scotland

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Lessons from Electricity Market Restructuring

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  1. Lessons from Electricity Market Restructuring David NewberyCambridge University Dublin Electricity Workshop Dublin, 25 November 2004 http:// www.econ.cam.ac.uk/electricity

  2. Lessons from Britain • Importance of market structure: • Unbundling: England vs Scotland • Competition in England and Wales: Pool to NETA • BETTA, locational signals and losses • Security of supply and investment • Environmental issues: ROCs and ETS • Liberalizing domestic supply Dublin

  3. British contrasts • England and Wales 1989 • unbundle CEGB into 3Gencos, Transmission • privatise Regional Electricity Companies +NGC • privatise National Power, PowerGen • Electricity Pool as gross wholesale market • Scotland • privatise 2 unchanged vertically integrated co.s Dublin

  4. Audit of CEGB: first five years • labour productivity doubled • coal prices fell 20% real • coal sales fell from 74mt to 30mt • CCGT rose from 0 to 25% • fossil fuel cost/kWh fell 45% real • nuclear fuel cost/kWh fell 60% real • emissions/kWh fell dramatically Dublin

  5. Productivity of CEGB and successor companiescompared to UK manufacturing industry 300 200 150 100 Dublin

  6. Generation in England and Wales by fuel type Dublin

  7. Generation in England and Wales by fuel type Dublin

  8. Generation in England and Wales Dublin

  9. Generation in England and Wales Dublin

  10. Net benefits of privatizing CEGB Cost savings: PDV at 6% £ billion $ bill. net fuel switching 3.6 5.8 efficiency gains 8.8 14.1 restructuring costs -2.8 -4.5 Total privatising gains 9.6 15.4 Environmental gains: SO2 (£1b) CO2 (£1.4b) 2.43.8 levellised reduction per kWh 5.7% Dublin

  11. CEGB costs/unit equivalent outputat 1994/5 prices Dublin Note: includes transmission costs*corrects for changed balance gen:trans

  12. Who gained, who lost? £ billion $ bill. Consumers -1.3 -2.1 Govt. excl sales -8.5 -13.6 After-tax profits 19.4 31.1 Net benefits 9.6 15.4 Govt. sales proceeds 9.7 15.5 Net govt. position 1.2 1.9 Dublin

  13. Dublin

  14. Who gained, who lost in Scotland? £ billion $ bill. Consumers -1.5 -2.4 Govt. excl sales -5.2 -8.3 After-tax profits 6.7 10.7 Net benefits -0.09 -0.14 Govt. sales proceeds 3.6 5.8 Net govt. position -1.6 -2.5 Dublin

  15. Subsequent developments • Initial market power raised profits • Offer imposes price control until plant sold • Market structure encourages IPP entry • Incumbents must sell plant to buy retailing • excess capacity, low concentration => price collapse, bankruptcy • Pool abolished as “manipulable”, NETA • prices recover after plant withdrawal • NETA cost over € 1 billion Dublin

  16. Offer “encourages” sales NETA live Gencos trade horizontal for vertical integration Source: John Bower (Oxford Institute for Energy Studies) Dublin

  17. Dublin

  18. Structural reforms initial choice of unbundling unsatisfactory caused excess entry Licences help negotiated restructuring MMC can investigate structural problems divestiture “encouraged” by threat of MMC Mergers with retailing require plant sales After 10 years competition finally arrives and with it bankruptcy, sales to foreign co.s caused by excess entry? Dublin

  19. Lessons from Britain • Competition improves performance • Unbundling needed for effective competition • Competition requires privatization? • Privatization precipitates further reforms? • But better to get it right at start Dublin

  20. BETTA, locational signals and losses Changing transmission pricing is difficult

  21. Transmission charging • CEGB took account of losses in dispatch • losses socialised in Pool, annual grid charges spatially differentiated to guide G • Offer fails to get T losses charged to G • small gains overall associated with large transfers of income from N to S • NETA fairs no better • BETTA no better Dublin

  22. Security of supply Recent British experience

  23. Reliability and Security in Electricity • Reliability is a system-wide property: G, T and D • G adequacy: balancing supply and demand • Short run: balancing; long run: capacity adequacy • T and D system reliability depends on: • standards (n-1), timely information, response to problems • Importance of regulatory incentives for maintenance, investment • Security of supply has a broader meaning • Includes strategic risks • From overseas: fuel import dependency • Internal: protests or strikes, terrorism • addressed by diversity, redundancy, storage, spare capacity Dublin

  24. The British experience competition lowers prices lower prices lead to plant withdrawal price-cost margin then stabilises? Does competition threaten security of supply? Dublin

  25. Electricity plant margins in England and Wales Source: NGC Dublin

  26. Impacts of restructuring on investment risks • Vertically integrated franchise monopoly (e.g. CEGB) • investment risks passed on to ‘captive consumers’ • investment planned by engineers, subject to energy policy • In liberalised electricity markets • unbundling and competition shift investment risks to generators • investment decisions profit driven • network investments affected by regulatory incentives • reliability depends on short-run SO, longer run capacity Dublin

  27. Security of supply • Central question: can liberalised markets deliver secure supplies at acceptable prices? • Transmission adequacy is test of regulation • do price caps lead to under-investment? • Reserve margins depend on market design • Import availability depends on actions abroad • from which information may be inadequate Dublin

  28. Transmission adequacy • NGT has incentives to deliver reliability • embarrassing London power cut 28/8/03 • NGC restored within 31 minutes • has invested £3.5 billion since 1990 • distribution+transmission investment = £16 billion • VOLL = 724 MW x £3532 x .5 = £1.32 million • but does this adequately measure cost? • Continent: poor incentives for interconnection • reduces interdependence and risks? Dublin

  29. Network investment looks fine but generation falls with price • Source: JESS Report Nov 2003 Dublin

  30. T & D Reliability Dublin

  31. Reliability of the regulated network • OFGEM provides incentives for timely expansion of network capacity and efficient system operation • Quality incentives • OFGEM is investigating the introduction of quality incentives for the next Price Review (2005) • Financial stability • DTI is consulting on the introduction of a ‘special administrative regime’ for energy network co.s Dublin

  32. NGC reserve margins was expected to be as low as 16.5 % winter 03/4 Markets reacted by an increase of 20 % of forward electricity prices since last spring However prices on the order of £22/MWh were still insufficient to allow new entrants to recover fixed costs UK Electricity Winter ‘03 Base-load Forward Prices Source: OFGEM press release Dublin

  33. Dublin

  34. Spark spread GB CCGT Winter 03-4 Dublin

  35. Vertical integration: solution to investment but at expense of supply competition? (2001/2 estimates, adjusted for the London/Seeboard, Innogy/Northern and PowerGen/TXU mergers) Source: Richard Green Dublin

  36. Investment behaviour Evidence of price responses

  37. Dublin

  38. Dublin

  39. Assessment on generation investment • Investors are attracted to profitable markets • provided market design stable, accommodating • regulatory risk of price caps low • and no threats from dominant state-owned co. • Problems: • obtaining suitable sites with consent • predicting future carbon price • predicting future capacity (renewables, interconnex) Dublin

  40. Environmental issues ROCs, ETS and the cost of wind

  41. Dublin

  42. Efficient carbon taxes/prices • damage independent of location and ~ time • costs and benefits uncertain: but MC steeper that marginal damage => fix price not quantity • EU Emissions Trading System: • makes CO2 price depend on supply and demand • unstable, hard to predict • investments in low-C energy need more predictability => Governments to offer long-term contracts for CO2? Dublin

  43. Current EU low-C policy • Consider 20 €/t CO2 = 73 €/tC = 7.3 €/MWh CCGT, 20 €/MWh coal • UK renewables premium: 60-75 €/MWh = 220-750 €/tC (estimate 450 €/tC) • Irish estimate 2010 138 €/tCO2 = 506 €/tC • contains large but unstable subsidy for R&D • How to charge for C and subsidise learning-by-doing to make renewables commercial? • Quotas solve public good problem? => Pay-off if other countries then adopt technology Dublin

  44. Incidence of ETS on ESI • ETS prices carbon • raises MC of marginal fuel • more likely to be coal • gives windfall to intramarginal plant • SB or CTC markets can claw this back Dublin

  45. John Bower’s estimate of relevant medium term marginal cost Key question: when to invest in new CCGT and retire old coal EXPECTED MARGINAL COST OF GENERATION IN 2005 - 2010 2003/4 price Source:John Bower www.oxfordenergy.org Oxford Energy Comment “UK Offshore Wind Generation Capacity: A Return to Picking Winners”

  46. Liberalising domestic supply The British Experience

  47. Dublin

  48. Dublin

  49. Supply liberalisation Domestic liberalisation Dublin

  50. Dublin

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